A Career in Payments:Past, Present & Future

CheckFreeCPS – Payments Forum

October 11, 2007

Agenda

Today’s Discussion:

• Personal Background• The Evolution of Electronic Payments• The Current State• The Future

– Account-to-Account– Business-to-Business

Personal Background

• Joined the New York Clearing House in August 1981 from Burroughs Corp (UNISYS)

• Technology and payments systems background • Held numerous positions that included systems development, operations

management, business development and overall management of payments systems

• Payment systems– Wire Transfer -Clearing House Interbank Payments System (CHIPS)– Automated Clearing House (ACH) – NYACH & Electronic Payments Network– Check Clearing Operations (NY, Chicago, San Francisco & LA)– Image Exchange - SVPCO

Electronic Payments SystemsThe Past

Electronic Funds Transfer (EFT) Circa 1981

• Electronic payments systems were unreliable– Computerized wire transfer was 11 years old– ACH was 7 years old

• Wire transfer systems were mainly terminal based – fully electronic– Settlement for CHIPS was next day– Fedwire & CHIPS transferring around $200 billion per day

• ACH – EFT stood for Extra Fast Trucks– Items were distributed via paper and magnetic tape– Items were originated via magnetic tape– A handful of banks were using data transmission– Primary ACH applications were direct deposit and direct payment neither

application had much traction

Electronic Funds Transfer (EFT) Circa 1981

• Checks were being cleared as they had been for decades– Very efficient– ECP was in its infancy – pilot clearings with magnetic tape

• Technology begins to improve in the mid to late 80’s– Mainframe computing is more reliable– Distributed processing using mini-computers– Telecommunications and modem improvements– Personal computers become of age in 1986 – High speed dial-up comes on to the scene

The Changing Environment

• Wire transfer system becomes more automated with all large banksinstalling computer-to-computer interfaces

• NYACH embarks on a three year program to establish the first all-electronic ACH (No paper or magnetic tape)

– PC software for receivers developed– Mandated all originators and receivers to have electronic connections – project

started in 1987 and completed in late 1989– FedACH become all-electronic in 1993

• Limited promotion of electronic payments direct deposit and direct payment begin in the 1990s – acceptance for direct deposit less than 40%

• ECP gains wider use – an all-electronic version created in 1992• Image exchange pilot for returns conducted in 1992

• Wire transfer system focus in the 1990s was primarily on risk controls –operational, credit and fraud

• ACH focus was on new ways to grow ACH volume – business payments, cash concentration, customer initiated entries and in the late 1990s beginning to look at the check conversion applications (RCK, ARC and POP – RCK implemented in 1998)

– In the last 10 years, NACHA focused on check conversion rather than native electronic payments

• Check focus continued primarily on ECP and the early stages of image exchange planning

• ECP’s major flaw is the inability to carry payee information – eliminating any possibility for check conversion – paper or image must follow

The Changing Environment

Electronic Payments SystemsThe Present

Pivotal Year for Image Exchange

• May 2007 – annualized rate of image exchange/share is in excess of 8 billion items approximately 25% of total

– 66% of these items are being received and processed as images– 2.6 billion being cleared as substitute checks– Approximately $10 trillion

• 42% of U.S. financial institutions are receiving images• Federal Reserve, SVPCO, Viewpoint and EndPoint are the major

exchanges

Critical Mass for Image Exchange

• Each of the existing networks should double their volume in 2008• Financial institutions that have not converted will continue to face higher

paper clearing prices• Check clearing volume will continue to decline due to debit cards, ACH

check conversion and native electronic payments• Vast majority of the paper will be long gone by 2010

Wire Transfer Systems

• Wire transfer is the golden goose of wholesale banking

• Fed & Clearing House Wire Transfer Study – 2006– Highlights the need for more automation– Structured remittance is critical for future growth

• Fed is not providing the proper leadership and is looking for any expedient method to implement without significant work on their part

• Some global banks want to do nothing

• Doing nothing – will cause golden goose to dry up over time

ACH – Check Conversion an Interim Product

Bill Payment• Accounts Receivable Conversion (ARC)

— 2004 - 1.25 billion— 2005 - 1.62 billion — 2006 - 2.1 billion— Continued growth expected in 2007 with new industries adopting

(telecommunications, insurance)— Volume grows slowly, flattens in 2008 — Volume to decline in 2009

o Payments will move to direct payment, Internet and home bankingo Many payments will migrate to credit/debit cards

- Image Exchange will not replace ARC – inferior solution

ACH - Check Conversion an Interim Product

Point-of-Sale• Merchants like image exchange model except for cost

— No signage — No customer confusion — Lower incidence of fraud

• Back-Office Conversion (BOC) NACHA implemented March 2007— Sign at point-of-sale stating that check can be converted to an EFT— Merchant converts check in a back-office environment to an ACH debit— Very slow take-up

• Volume will ultimately move to cards over time— BOC could result in accelerating movement

• BOC peaks in 2008 & 2009

ACH Check Conversion an Interim Product

Business Check Conversion• Best application for image exchange• Corporate customers do not want their checks converted to ACH debits• Business checks without aux-on-us field eligible for conversion • Receiving banks working on marrying ACH & Check systems • The longer image exchange takes the more inroads ACH will make

ACH – Business Opportunities

Native Electronic Payments Growth• Business-to-business payments (3-4 billion)• Business-to-consumer (7.3 billion)

— direct deposit (salaries, annuities, dividends, expense reimbursement)• Consumer-to-business bill payment (7 billion)

— Internet banking— Direct payment— Company Web sites

• Account-to-account (4.4 billion)— Transfers between accounts— Consumer-to-consumer

• Cross-border (Research indicates market small)

Electronic Payments SystemsThe Future

Account-to-Account

Account to Account Transfers

• Consumers should be able to perform the following electronic transfers and payments from one platform using a credit push:

– Transfer funds between accounts at the same institution– Transfer funds to your account at another institution– Transfer funds to stock and mutual fund accounts– Transfer funds to accounts of other family members within same financial

institution or an external institution– Pay person to person– Pay any bill electronically

• Channel of choice – Internet or Personal Banking, Mobile Banking, ATM & Telephone Banking

A2A Payment Mechanisms

• Wire transfer – real-time transfer with payment finality– Extensive reach but has high cost for origination and receipt

• EFT Network – real-time transfer– Limited reach unless all switches participate

• ACH – next day transfer– Ubiquitous

All methods should be available from Personal Banking platforms with pricing based on speed of delivery

Account Identifiers

• Transit Routing Number and Account Number– High risk for consumer or business to publicize– Can be used illegally for demand drafts, fraudulent checks and ACH debits

• EFT Personal Account Number (PAN)– Limited risk but could be used illegally as off-line debit– May require credit only version– No current ability to pay business customers

• Universal Payment Identification Code– Safe identifier can not be used for debit (electronic or paper)– Portable– Mobile phone number– Currently only available for business customers but can be rolled out to consumers

• Email Address– Safe identifier– Closed networks (PayPal)– Needs to be supported with proper banking identifiers– Portability issues

Limitations of Internet Banking

Payee Account ID is really Payer Account ID

No location for actual Payee Account Information

A2A Solutions

• Financial institutions must– Modify initiation platforms to allow transfers using account identifiers

• Home banking• Mobile Phones• Telephone banking• ATM

– Use railroad that makes the most sense for the customer• EFT network• Wire transfer network• ACH network

– Price for the service based on value received

Price Credit Transfer Based on Service Level

Payee Bank Routing Number:

Payee Bank Account Number:

Payee Personal Account Number:

The Payment Platform of the Future

* To ensure proper credit of electronic payments both the reference # and invoice #(s) are required.

Corporate Sales Sold to: Hudson Computers Supply

ATTN: G. Nederman 45 E Main St. Suite 1B Warren, NY 32132-6754

Ship to: Hudson Computer Supply ATTN: G. Nederman 45 E Main St. Suite 1B Warren, NY 32132-6754

Qty Size Color Item # Description Unit

Price Disc Total

4 34’ N/A 7523411 T1 Cable $105.00 $420.002 N/A N/A 7565433 Network Router $540.00 $1080.001 Sm Blue 6543733 19’ LCD Display $426.00 $426.001 Md Red 6242444 Mousepad $15.00 $15.00 Questions? Call customer service @ 243-555-3232

If you are paying by check please return this portion with your payment Remit checks to: Sold to: ACME Products Inc. Hudson Computers Supply 1209 Cedar Ln. ATTN: G. Nederman Holyoke, MD 34212-4565 45 E Main St. Suite 1B

Warren, NY 32132-6754

We encourage you to send payments electronically via ACH credit or EDI Payments to: ACME Products Inc. ABA # - 021052053 UPIC/Acct # - 3783000152 Reference # - RJ8049 Invoice # - 0147586342

Invoice #

Order # Page #

Date 0147586

3458003 1 of 1

12/06/01

Customer # Amount 804978-75 $2096.28

Tax

Sub Total

$155.28

$1941.00

Shipping $0.00

TOTAL $2096.28

Invoice # 0147586

Customer #

Amount

804978-75

$2096.28

Due Date 01/06/02* To ensure proper credit of electronic payments both the reference # and invoice #(s) are required.

George, Thank you for your order!!

We encourage you to send payments electronically via Personal Banking Bill Payment:

ACME Products Inc.Bank Routing No. - 021052053Bank Account No - 37830152Your Account No - 147586342(Please ensure that you include your account number)

The Platform of the Future – Bill Payment

Account Setup

Enrollment Information

Successful Enrollment

Transfer Request - One Time or Recurring

Transfer Amount & Speed

Transfer Confirmation

Transfer Detail Response

Transfer Status

Email Confirmation

Mobile Phones using UPIC Architecture

5. If routed to FedACH, the payment is

transferred to EPN

5. If routed to FedACH, the payment is

transferred to EPN 6. EPN translates Phone Number into

Consumer’s Bank R/T # and Consumer’s Account

#

6. EPN translates Phone Number into

Consumer’s Bank R/T # and Consumer’s Account

#

7. EPN routes payment to Consumer’s Bank for crediting to Consumer’s

Account

7. EPN routes payment to Consumer’s Bank for crediting to Consumer’s

Account

Payer

Payer’s Bank

Receiving Consumer

3. Payer connects to bank site with mobile

phone or home banking and initiates a payment using the consumer’s

phone number

3. Payer connects to bank site with mobile

phone or home banking and initiates a payment using the consumer’s

phone number

4. Payer’s bank sends an ACH credit using the

Universal Routing Number & Consumer’s

Phone Number as account number

4. Payer’s bank sends an ACH credit using the

Universal Routing Number & Consumer’s

Phone Number as account number

Consumer’s Bank

UPIC DatabaseUPIC Database

FedACH

8. Consumer’s Bank processes ACH file and credits the Consumer

8. Consumer’s Bank processes ACH file and credits the Consumer

9. Consumer receives text message notifying

payment receipt

9. Consumer receives text message notifying

payment receipt2. Consumer gives phone number to paying consumer (payer)

2. Consumer gives phone number to paying consumer (payer)

Electronic Payments SystemsThe Future

Business-to-Business Payments

Situation

U.S. Payment Systems – Wire Transfer & ACHRequire Automation Enhancements

What is needed for payment initiation?

• Bank systems require upgrades to provide more electronic payment automation

– Automatic creation of electronic payments directly from accounts payable systems

– Business customers ability to export from payables or key in structured remittance information

– Elimination of faxed instructions to the bank for wire creation

What is needed for payment receipt?

• Business customer receives enough structured information to automatically post to accounts receivable

• Bank information delivery systems need to be upgraded to transmit automated remittance reports

• Banks must supply business beneficiary with all relevant data for automated posting in a standard format

The Standards

• ISO 20022– International Standards Organization– Universal Financial Industry message scheme (UNIFI)– Extensible Mark-up Language (XML)– UNIFI an effort to combine multiple XML standards

• IFX• OAGI• SWIFT• TWIST• Rosetta Net

The Standards

• STP 820– American National Standards Institute– Streamlined version of ANSI X12.820– Defines minimum number of data elements for automated posting and reconciliation– Does not deviate from original standard– Full compatibility with companies and banks using 820 standard– Simplifies coding for banking software vendors

ISO 20022 – Remittance Information

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</Strd>

STP 820 – Remittance Information

RMR*IV*3920394930203**30.01*40.01*2\REF*R7*3920394930203*SPOKE WITH MS. JONES \DTM*003*20030123\ADX*-8*01*TD*USED CATALOG 199JAN2003\

B2B Payments Opportunity

• Domestic– The Federal Reserve Study (2001) - 4+

billion payments– New study this year

• Global– The Clearing House Study – 85 million

payments• Includes payments already being made by wire

and bank proprietary systems• Based on 75% of U.S. major trading partners

ISO 20022 - Benefits

• Based on current technology• Brings multiple standards together• Global standard potential• Currently being implemented in

Europe– Key for implementing SEPA– No other viable alternative – Time frame for full implementation is

extended

ISO 20022 - Barriers

• Cost to the U.S. banking and business community to implement – No return on investment for payments system operators or financial institutions (over 15,000

FIs in the US) – Businesses of all sizes will need to implement it in their enterprise resource planning (ERP)

or accounting systems – Cash management and accounting software providers will need to implement the complex

standard into their accounting packages – Financial Institutions will need to develop remittance delivery capability using the new

standard for their business customers• 20 years before ISO 20022 is broadly adopted by US businesses • The standard is unproven in any payments systems

STP 820 - Benefits

• Speed to market - large corporations are able to process the STP 820 in their ERPpackages without any upgrades or changes

• Cash management software vendors are already implementing the STP 820 for their ACH offering

• Minor implementation effort for vendors for wires• Banks already have EDI delivery platforms that can be used to deliver the STP 820 to

their business customers today • This is the first step to streamlining front-end applications for business customers • Most corporations do not have XML in their five-year plan for payments

STP 820 - Barriers

• U.S. Standard• Some banks do not believe the wire transfer systems should be upgraded for B2B

traffic • Global banks only want to upgrade once

Corporate Expectations

• Wanted a structured remittance capability for electronic payments for years

• Do not want to wait 10-15 years• AFP Payments Advisory Group sent a

letter of support for STP 820 • AFP group opposes implementation of

ISO 20022 in the near term

Solutions

• Implement STP 820 for ACH & wires now• Ensure that formats can be mapped using ISO 20022• Include 9000 characters of remittance for Fedwire

– CHIPS has it– SWIFT MT103 Remit

• Additional remittance space allows:– Reduced expense by all parties to implement– ISO 20022 to be carried by ACH,SWIFT, CHIPS or Fedwire– Banks that want to use ISO can

Next Steps

• Industry needs to solidify the course of action• Need bank commitment for implementation of origination and remittance delivery• Work with the software vendors to implement the standard• Operators or others may need to supply a white label remittance delivery capability –

centralized or stand-alone

Questions?